States Dreading Fiscal Cliff Outcome — But Indecision May Be Worse

Massachusetts Gov. Deval Patrick says uncertainty about a federal budget deal in Washington played a big part in his recent announcement of cuts to his state's budget by $500 million.

Steven SenneAP

Originally published on December 18, 2012 12:35 pm

It's not the cutting, it's the uncertainty.

That's the lament these days from governors and mayors awaiting the outcome of federal budget negotiations.

They know they're likely to take a hit; they just don't know how bad it's going to be.

"How do you budget for the unknown?" wonders Ed Long, the county executive in Fairfax County, Va. "Our worst fear is that by [the federal government] not acting, the economy is going to get worse going forward."

If President Obama and Congress aren't able to reach a budget deal by the end of the year, automatic spending cuts, known as sequestration, are set to take effect across most federal programs. Domestic programs, aside from entitlements, would be cut by 8.2 percent, or $38 billion this fiscal year.

A lot of that money is sent out to states and local governments in the form of grants for housing, community development and energy programs, among many other things.

Governors and mayors are therefore bracing for significant cuts in aid from Washington, but they're made nervous by not having any idea how things will play out.

A new budget deal might include cuts that would affect them more deeply than sequestration. But lack of action could hurt the economy and cut the tax revenues they're able to collect on their own.

"There's a pretty high frustration level among state officials with the uncertainty," says Scott Pattison, executive director of the National Association of State Budget Officers (NASBO).

"From a state perspective, the fiscal cliff is a royal pain, but what we're really worried about is going forward over the long term," he says.

No Longer So Generous

The federal government has been pretty generous to states and localities in recent years. The 2009 stimulus package gave states roughly $135 billion to help patch holes in budgets that had been eaten away by the Great Recession. Even more money flowed down through states to fund education, Medicaid and other programs.

There have been extensions of some of the stimulus money, but that's all dried up at this point. States and, especially, local governments, have laid off hundreds of thousands of workers over the past four years.

Now, the regular flow of money they get from Washington is under threat. Lots of grant programs would be cut if sequestration takes effect.

"The federal government has a $4 trillion target for federal deficit reduction over 10 years," says Tracy Gordon, a public finance expert at the Brookings Institution. "There's no way, if they reach that target, that it's not going to affect states and localities."

Making Do With Less

Gordon points out that states are having a hard time doing any kind of long-term planning, because they don't know what the future flow of money from the feds is going to look like. Many federal programs that states and localities depend on are now at risk.

Here's an obscure one: payments in lieu of taxes. The federal government offers "PILT" money to counties, particularly out West, because it owns so much of the land, and federal property can't be taxed.

For some Western counties, PILT makes up 60 or 70 percent of their entire budgets. That funding is currently on track to be cut by 7.6 percent.

"As far as what we can tax and then adding that PILT in, not getting that PILT would be pretty devastating to us," says Barbara Steele, county clerk in Elmore County, Idaho, which is home to 1.4 million acres of public land.

Not All Bad News

If there isn't any budget deal in Washington, it's not all bad news for states. Most of the money they get from the federal government — which comes in the form of Medicaid dollars — isn't subject to sequestration.

"In some ways, having a deal would be worse, if it means big changes to programs like Medicaid that are exempt from sequester," Gordon says.

Also, expiration of various federal tax cuts would help bring in money to state coffers. Many states link their tax codes to federal law, so increases in income and estate taxes, and the expiration of various tax credits would mean more revenue for more than half the states, according to the Pew Center on the States.

What's bothering state and local officials more than any specific program cuts or revenue increases, however, is the suspense.

The Anxiety Of Waiting

Many of them are just a few weeks away from crafting budgets that will determine their own spending levels for the next fiscal year, which generally begins July 1 at the state level.

Without knowing what numbers they can plug into their budgets, some are already crafting budgets that are more conservative than they might otherwise need to be. Massachusetts Gov. Deval Patrick this month cut his state's budget by $500 million, largely due to the federal machinations.

The longer the negotiations in Washington drag out, the more likely states and localities are to cut their spending levels, regardless of what actions the feds ultimately take.

"The big thing that's out there right now is that nobody knows how to deal with the unknown," says Long, the Fairfax County, Va., executive.

'Paralyzing' The Economy

Fairfax County is a suburban area just outside Washington. As such, it's home to an unusually high concentration of government workers and contractors.

Long says that uncertainty about federal spending is already hurting his county's economy. Employers are "paralyzed" not knowing what the federal government is going to do, he says. As a result, commercial real estate development, which grew at 8 percent in the county this year, is forecast to be flat next year.

Given its proximity to Washington, Fairfax is an extreme case. States and localities across the country, though, are worried about how the federal stalemate will affect the economy as a whole.

"The revenue impacts of a possible recession will amount to a heck of a lot more money to states than the budget cuts," says Pattison, the NASBO executive director.

That's why state and local officials are rooting as loudly as anyone for Obama and Congress to make a deal as soon as they can.

"Once the federal government makes their decisions, trust me, it's going to take months before you get the details of what that's going to mean for states and localities," Long says.